A bridging loan is used to borrow money for a short period of time, usually for less than 12 months. Although bridging finance can be arranged for many reasons, it is typically used to ‘bridge the gap’ so you can buy a new home before you have sold your current property.
There are Two Types of Bridging Loan, Closed and Open
With a closed loan, you have a fixed repayment date. You would generally use a closed loan when you are waiting for your property sale to complete and have a completion date, but you must buy the onward property in the meantime.
With an open loan, there is no fixed repayment date. This gives you more flexibility to complete a sale, but the loan should be repaid as soon as possible, to minimise the cost.
The lender will want to see evidence that your repayment plan is feasible, for example, you will receive enough money from the sale of your current property to enable repayment of the loan. The lender will normally also want to see details of the property you are purchasing including the purchase price and evidence of the sale of your property. It is a good idea to have a back-up plan, such as a refinance, in case your initial plan fails.
When taking out a bridging loan, a ‘charge’ will be placed on your existing property in the same way as a standard mortgage charge. This is a legal agreement that prioritises which lenders will be repaid if you fail to repay your loan. Both a first and second charge bridging loan can use your existing property as security.
If you have a mortgage on the existing property, the bridging loan will be a second charge, meaning if you failed to repay the bridging loan and your home had to be sold to repay the debt, your mortgage would be paid first from the proceeds and the bridging loan second, from any remaining equity.
If you own your existing property outright, or you were taking out a bridging loan to repay your mortgage, you will take out a first charge bridging loan. This means the bridging loan would be repaid first if your repayments fell behind.
The Pros of Bridging Loans
Quality bridging loans bring a variety of unique benefits to the table, including but not limited to the following:
- Speed. Some bridging loans are paid out within a matter of days.
- Deferred Payment. It is usually not necessary to repay a single penny of the loan until the agreed repayment date at the end of the term.
- Flexibility. Bridging loans are generally more flexible and accessible than conventional loans and mortgages.
The Cons of Bridging Loans
However, there are also some downsides to factor into the equation, such as:
- High Interest. The comparatively high interest rates attached to bridging loans make for steeper borrowing costs on longer terms.
- Collateral. It may be impossible to qualify for a bridging loan in the first place, without enough equity to guarantee the loan.
- Fees. Many lenders charge a variety of administration, processing and completion fees which quickly add up.